Income inequality: Social justice or crony capitalism?

The political movement Occupy Wall Street has shaped the tax and spending proposals of the Obama administration’s budget and political debate on the premise that our capitalist economic system is rigged to favor the top-earning “one percenters.” But income inequality can result either from capitalism or politics, each for better or worse.

Historically, political elites focused on enriching themselves at the expense of the general public: In 1773 patriots threw the tea into Boston Harbor of the East India Tea Company, granted a “royal charter” in 1600. The U.S. system was founded not just on the principles of democracy but on limited government complementing private market capitalism that encouraged individuals to “pursue happiness” — accumulate wealth — on merit rather than political connections. Support for the less fortunate was provided by family members, religious and other charitable organizations.

Believing (wrongly) that class envy against the new economic elites — innovative entrepreneurs — would cause revolution, Karl Marx offered the socialist alternative “from each according to his ability, to each according to his need” with politics supplanting merit. Despite totalitarian methods universally employed by governments seriously pursuing the socialist model leading to the murder of tens of millions, one historian recently concluded that communism reduced workers “to shiftless, work-shy alcoholics.”

The concept of private insurance — spreading the risk — dates back over 4,000 years, whereas public “social” insurance dates only to the late 1800s when introduced by Bismarck to build popular support for universal conscription.

Social democracies such as Sweden with a relatively homogeneous population implemented the modern version of the “welfare state” in the 1970s by combining the concept of insurance with cross-subsidies — simultaneously spreading the risk and cost burden by implicitly taxing some to subsidize others, the cornerstone of Obamacare. Public sponsorship inevitably exacerbates the insurance “moral hazard” of encouraging excessive risk-taking while the subsidy incentive encourages increased consumption with less work effort, particularly in more heterogeneous societies that need to rely more on authoritarian measures than social pressure. The U.S. is now a highly regulated social democracy with a liberal welfare state — already totalitarian, according to Thomas Sowell. Yet recent research by Thomas Piketty concludes that the market system is still rigged in favor of the rich, recommending further political intervention including punitive taxes on the returns to capital.

The stakes are high. Labor force participation is at its lowest level since the 1970s and the optimistically labeled “economic recovery” is the weakest since the end of World War II. The U.S. has the highest corporate tax rate among industrialized countries and an increasingly oppressive regulatory regime. The rosy scenarios for avoiding default on the debt to finance the burgeoning contingent liabilities of the federal government require doubling economic growth, impossible without greater labor force participation and a massive increase in productive private business investment. Those promoting more social justice reject the obvious trade-off with economic growth.

Current economic stagnation among virtually all the social democracies — including autocratic pretenders such as Russia — reflects the growing power of political elites rather than any failure of competitive market capitalism. That’s the inevitable result of democracy unleashed, according to the Economist’s recent feature article on democracy confirming the wisdom of the founders’ original limitations. The recent multiple hundred million dollar paydays for former politician Al Gore (not for creating the Internet) and the paydays for Wall Street bankers bailed out by politicians during the recent financial crisis are contemporary U.S. examples of crony capitalism.